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Visa’s Initial Public Offering

March 10, 2008

I’ve received a lot of email asking whether the Visa IPO is worth buying. I wrote the following article forThe Kelly Letterand sent it to subscribers on Saturday, March 1.

Visa will IPO around March 19 or 20 under the proposed symbol V for between $37 and $42. The company stands to make nearly $19 billion on more than 400 million shares, which would be the biggest U.S. IPO ever.

Should we buy? Let’s take a look.

MasterCard went public two years ago. Since closing at $46 on its first day of trading, it’s gained more than 300%. Its earnings growth is forecasted at 20% annually for the next several years.

How does Visa compare? Impressively. In 2006, it processed 44 billion transactions adding up to $3.2 trillion.

I love the global transaction processing industry. Both MasterCard and Visa are smarter than American Express and Discover. The latter two lend money to customers and customers pay them back over time at high interest rates. At first glance, it looks like a pretty good business.

Well, way back in 1603 Shakespeare pointed out in Hamlet that it’s best to “neither a borrower nor a lender be.” The sub-prime mess has confirmed that notion, and anybody lending to anybody is now having trouble. AmEx and Discover are both worried that cash-strapped consumers will default on their credit card payments.

Meanwhile, neither MasterCard nor Visa cares. The reason is that they don’t lend any money. They only process the transaction and the customer borrows from the sponsoring bank. MasterCard and Visa just collect a fee every time somebody uses one of their cards to buy something.

Visa’s only real competition is MasterCard, and it’s already proven itself to be a bigger operation.

The future of credit card transactions is very bright, for four reasons.

First, developing countries still use mostly cash, and have yet to stumble upon the catastrophe, er, convenience that is credit cards. The sad truth is that most people just can’t manage cards properly in their own favor, so they end up carrying balances at exorbitant interest rates. That’s neither here nor there to MasterCard and Visa, though. They just process.

Second, the steady rise of the internet means more shopping will happen online. That will boost credit card usage as well but is not as much of a factor as developing country adoption rates. People already use credit cards when shopping in physical stores. There should be a little boost from online usage, though.

Third, people are using credit cards for smaller and smaller purchases, amounts around $5. Many stores don’t even require a signature for purchases under $20 or $30. Customers find it convenient and processors love it because they get a fee. Only merchants dislike it because they have to pay a fee on each transaction. The customer usually wins out, though, and this trend toward plastic payment for everything will remain.

Fourth, economic weakness and what appears to be the steady de-sophistication of consumers all but guarantees a broader use of credit cards. People may skip their house payment, car payment, hospital payment and so on, but they still need to buy food and other items. If they’re loath to shoplift, that leaves just credit cards as an option for the cash bereft.

I used to teach financial seminars in Los Angeles. I spent two hours explaining to people the right way to use credit cards so that there were no fees or interest rate charges, and then to put the joke on the financial companies by getting points or cash back for free. In follow-up surveys, I found that less than 5% of attendees ever got themselves on the right track. And those were people interested enough in their finances to attend a seminar!

So, the storm of profit from those with enough financial rope to hang themselves is blowing harder than ever, and Visa will cash in big.

As you can see, I’m interested in owning shares of Visa.

That being clear, I’m not going to rush to get it on the first day it goes public. We’re in a rough market these days, and there will probably be plenty of time to pick up shares of Visa after its IPO.

MasterCard closed its first day of trading at $46, then closed five days later at $44. Three weeks later, it spent a whole week at less than $46. Six weeks later, it spent two weeks at less than $46. See what I mean? There will probably be plenty of time to get Visa at a good price.

Also, MasterCard’s success makes it less likely that we’ll see as much of a run to the sky with Visa. MasterCard surprised with its strong business. Visa won’t, precisely because everybody now knows what a great business credit card processing is.

I’ll keep an eye on it.

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